UK inflation increases to two-year high, ONS reveals

UK inflation increased more sharply than expected in November to the highest level in over two years, according to official figures released on Tuesday.

The Office for National Statistics said consumer price inflation rose to 1.2% in the year to November, following a surprise fall to 0.9% in October from 1% in September.

This was just above the consensus forecast among economists of 1.1% and the highest rate of CPI since October 2014.

Month-on-month, CPI rose 0.2% in November, as expected, after a 0.1% rise the month before.

Core inflation, which excludes more volatile goods like fuel and food, rose back up to 1.4% in November after dipping to 1.2% in October from 1.5% in September.

Rises in the prices of clothing after softness in October, certain IT equipment boosted by sterling’s drop, furniture, fuel and food were the main contributors to the increase in the rate, only partly offset by falls in air and sea fares.

"November's slight rally in the value of sterling eased the inflationary pressure on businesses importing raw materials but consumer prices continued to edge upwards, due mainly to the rising cost of clothing and fuel," said ONS head of inflation Mike Prestwood.

Higher inflation, low interest rates

Economists said news that the economy was back on its inflationary path after the surprise fall in October, with November's rise in line with the Bank of England’s projection for inflation to climb to 2.7% next year and remain above the 2% target until 2020, further reinforced the belief that UK interest rates will remain unmoved for some time.

Consumer price inflation is forecast to move markedly higher over the coming months as sterling weakness increasingly feeds through.

"While it will take some time before we see the full effects of sterling’s depreciation on consumer prices, the breakdown showed that components that typically respond more quickly to exchange rate movements, such as petrol and food prices, were a major upward influence on inflation," said Ruth Gregory at Capital Economics.

She noted that inflation pressures at the beginning of the supply chain were continuing to build, with the increase in crude oil prices certain to exacerbate the upward effect.

Gregory sees CPI inflation breaching the 2% target in spring 2017 and peaking at just under 3% in early 2018 once the indirect effects of sterling’s fall has had time to feed through.

"That said, we don’t think that the expected overshoot of the 2% target will be too much of a headache for the MPC. As such, we expect the MPC to keep rates on hold at this Thursday’s meeting and for a long time to come," Gregory said.

Howard Archer at IHS Markit was in almost in total agreement, also believing the BoE will keep rates unchanged for a prolonged period, but sees a peak of around 3.3% early in 2018.

He added: "It looks inevitable that consumer purchasing power will deteriorate markedly over the coming months as inflation moves appreciably higher and earnings growth is limited. Companies will highly likely look to clamp down on workers’ pay as they strive to save costs in a more difficult environment and as their imported input prices are lifted by the sharply weakened pound.

"Meanwhile, a likely softening labour market and consumer uncertainties will dilute workers’ ability and willingness to push for higher pay awards despite rising inflation. The odds look stacked in favour of inflation moving above earnings growth during 2017."

Looking further forward, Ben Brettell at Hargreaves Lansdown said that if the pound does not fall much further, the effect of the currency's weakness was a one-off factor which will fall out of the figures in due course.

"The longer-term picture is one of structurally low inflation – due in part to demographic reasons," Brettell said. "The baby boomers are starting to retire and have already gone thorough their consumption phase – they have bought their houses, cars and consumer goods. The generation behind them is saddled with debt and struggling to get on the housing ladder. Workers don’t have the bargaining power over pay they once did, and wage growth looks set to be anaemic at best."